Reaping The Rewards Of Renting

This article, which examines the advantages of outsourcing to ASPs, is reprinted with permission from Deloitte, Touche & Deloitte Consulting's Technology Trends 2000 Annual Report discusses the implications.

Follow the links on this page to other reports from Technology Trends 2000. For information on how to receive a print copy of the report, please visit www.us.deloitte.com

Why purchase software when you can skip the heavy up-front costs and skirt maintenance headaches by renting instead?

Application service providers (ASPs),companies that rent out software applications and provide related services,are posing that question to enterprises large and small. Apparently they're getting the right answer. The ASP market is expected to grow to $48.5 billion by 2003, according to Deloitte Research.

ASPs typically charge a monthly fee to access software and Web site hosting services via the Internet. Customers usually sign a multi-year agreement that includes software maintenance and upgrades, essentially turning over much of the day-to-day upkeep to the ASP.

Companies that have established an ASP to distribute software and related services range from telecommunications giants like Sprint, to enterprise software stalwarts like Oracle Corp. and PeopleSoft Inc. They join a raft of pure play ASPs such as Aristisoft Inc., ReleaseNow.com Corp. and Digital River Inc.

Long distance carriers like Sprint and AT&T Corp. are getting into the act to leverage their pivotal role in delivering applications to the ASPs' customers. "The biggest contributing factor to ASP growth is the emergence of the advanced telecommunications backbone. Although traditional telcos have always been viewed as having high capacity, as we grow in the data wireless and broadband side, we provide the needed infrastructure to enable ASPs," says Sheila Bacon, senior director for e-business solutions at Sprint Business.

According to a recent report issued by Deloitte Research entitled "The Internet-Based ASP Marketplace: Renaissance of the Online Value-Added Network," business customers are drawn to ASPs for "financial cost savings, lower IT management efforts, reduced capital investments and improved purchasing power."

Paying For Convenience

While ASP customers avoid the large up-front payment they would incur if they had purchased the software application, they shouldn't expect to save on total cost of ownership. "ASP solutions are more expensive over a given year. It's just amortized. Some companies like that because it's a good balance sheet option," says Lisa Williams, an analyst with the Yankee Group.

The ASP market, like the business model itself, is evolving. Thus far, Web hosting and e-business applications are more popular than traditional enterprise applications like enterprise resource management (ERP) systems.

And it's the middle-market companies that are clamoring for e-business applications because they're hungry for technology that will help them attract and service customers. The convenience offered by ASPs is irresistible for smaller companies that are struggling to manage their existing systems, and now need to add an e-commerce component. Also, companies that need to expand quickly can do so without a major capital expenditure. "With an ASP, you're accessing scalable equipment with scalable architecture," says Marc Schwarz, principal-in-charge of Deloitte Consulting's Global Outsourcing Services.

The Fortune 500 companies are more likely to turn to ASPs for back office software like procurement and human resources applications. "Coca-Cola isn't going to double its market in one year, so it's not going to spend that much on systems to increase market share. Large companies are more interested in increasing their margins. The back office software allows that," says Williams.

But don't expect larger enterprises to turn over these complex, mission-critical applications to ASPs just yet. Says Schwarz: "When you put an application in an ASP, there's a notion that you don't need to spend time customizing it to your own needs. But in more sophisticated environments and for the more sophisticated software packages, that's not necessarily the case. They need substantial integration and modification to get them up and running, and they may need a higher level of continued maintenance. So for enterprise wide systems,whether they're ERP or e-commerce systems,a company probably still requires something greater than today's simplistic ASP model."

Bacon feels that enterprises will flock to ASPs that prove themselves up to the demands of Fortune 500-level companies. "High-end customers desire complete solutions. We're talking about implementing a number of complex components successfully," she says. "Clearly we understand that business integration is based on the ability to customize an application to fit the business's need."

While the individual ASPs work to find their niche in an increasingly crowded market, certain Internet and market forces will ultimately determine how quickly the ASP market grows. The most critical factor is the Internet's infrastructure. The Deloitte Research report states that this common network platform is a "ubiquitous standard for software developers, reducing the cost of new and better applications and increasing the supply of new companies who are programming them."

Other factors important to the future of the ASP are an increased acceptance of outsourcing, the rapid growth of e-business as a whole, mergers and acquisitions throughout the economy and a trend towards off-the-shelf packaged software, according to the report. With most of these developments well underway, it appears that we'll be seeing more virtual "for rent" signs ahead.

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